Question

a)You purchase a 3-year US government bond with a face value of €1,000 and semi-annual coupon payments amounting to €25. The bond will still make six coupon payments plus pay back the principal. If the semi-annual yield to maturity is currently 5%, the present value of this bond would be?

b) Computer stocks currently provide an expected rate of return of 16%. MBI, a large computer company, will pay a year-end dividend of €2 per share. If the stock is selling at €50 per share, what must be the market’s expectation of the growth rate of MBI dividends?

c)Consider a 5-year bond with a 10% coupon that has a present yield to maturity of 8%. If interest rates remain constant, one year from now the price of this bond will be

Answer 1

a. The price of the bond can be found using PV function in EXCEL

=PV(rate,nper,pmt,fv,type)

Here the payments are semi-annual

rate=5%

pmt=coupon payment=25

nper=6 (coupn payments remaining)

fv=1000

=PV(5%,6,25,1000,0)=873.11

The price of the bond=873.11

b. As per the dividend discount model,

growth rate=expected return-(Dividend/Stock price)=16%-(2/50)=16%-4%=12%

c. The formula is same PV function

=PV(rate,nper,pmt,fv,type)

rate=8%

nper=5-1=4

pmt=coupon payment=(10%*1000)=100

fv=1000

=PV(8%,4,100,1000,0)=1066.24

The price after one year=1066.24